Tuesday, July 14, 2009

Framing Capitalism

I just read "Confessions of an Economic Hitman" by John Perkins, and it got me thinking.

There is a huge culture on the left of assuming that capitalism mistreats poor countries and isn't appropriate for them. I actually had a good friend (an incredibly smart one) that the "same rules don't apply" in Latin America.

Certainly, this is true to an extent for systems that rely upon little corruption. However, this is not true for an entire economy.

To demonstrate this, let's walk through the process by which currency demand occurs.

Let's say that the government in Argentina is trying to import from the US government. This would work for governments, companies or individuals, on both sides, but making it governments keeps it simple.

When Argentina wants to import goods from the US, they need to have a currency which the US will accept. Because the US's costs (salary, equipment, etc) are typically in dollars, Argentina needs to pay in dollars. Thus, it needs to have dollars.

There are a number of ways to get dollars, but they're functionally similar. Argentina can sell something else to the US and get dollars, or Argentina can trade Argentinian pesos for dollars with someone who wants to buy something from Argentina, or any number of other nuances... but the constant is that in order to obtain dollars to get something from the US, Argentina needs to have something that somebody else wants. If they don't, nobody will accept Argentinian pesos for dollars because Argentina would have nothing anybody wants.

The exchange rate of dollars for pesos is basically determined by how many dollars all the people trying to trade for dollars want, and how many pesos the people trying to trade for pesos want. In other words, it's supply and demand.

Now, Argentina does have lots of exports, but if you look at a country without many (say, Bolivia), if they want to afford to purchase the substantial variety of things the US creates (both "luxuries" like soft drinks and clothing to necessities such as medicine), they need to have something to sell.

A country like Bolivia, that isn't particularly industrialized, will thus have basically two options for sale: labor and raw materials.

There are a massive number of unemployed people out there, so cheap labor is common. Thus, in order to sell labor (basically, allow companies to set up factories and other things in your country and hire workers), you need to credibly demonstrate that the labor you provide will be stable. If supply chains will get cut off due to war, if government laws regarding labor change (hiring and layoffs, salaries), if government laws regarding corporations change (tax rates, factory seizures, etc), if anything is a threat to the continued operation of a factory, the corporations won't come. This isn't an endorsement of companies having poor labor practices (I think corporations have the responsibility to treat workers well) but merely a statement of fact: a company will not go to a country where it cannot be guaranteed a stable situation because there are plenty of other countries that do guarantee stability.

Labor has flocked to southeast Asia because situations there are reasonably stable. Governments there typically don't seize American assets, labor laws are not restrictive, etc. South America, however, has wrestled with communism for decades, and communist countries have a tendency to seize factories, ban the firing of workers, institute massively high tax rates, etc. Thus, most corporations avoid South America. It is for this reason that China has been developing so quickly while South America hasn't - China has allowed American corporations in, and has learned from American technical expertise. South America has made that much harder.

Raw materials are a much rarer resource than labor, so the risk of investing in South American countries is often worth it if you're purchasing raw materials. However, the exploitation of resource deposits, forests and farmland tends to have nasty environmental effects and tends to displace or hurt a lot of communities. Thus, you have a situation where the entirety of South America is being strip mined so that South America can afford developed country technology or goods.

Thus, in order to provide medicine to their people or purchase US engineering expertise, South American countries need to sell their precious resources. It's not US greed, it's not capitalism's failure, it's the operation of capitalism in a situation where one player has little to offer the other.

The more interesting question is how to escape this cycle.

Many south american countries have been leaning towards the "seize and nationalize" route. Bolivia and Venezuela have seized US and other countries' natural resource assets after the companies purchased them. There are a number of major problems with this approach. Firstly, governments tend to be very, very bad at running businesses efficiently. Venezuela has been hammered by this downturn harder than most because after expelling Chevron, its extraction costs for oil have climbed to the highest in the world and they can't compete in a period of low oil prices and low oil demand.

Secondly, it entrenches a country's reliance on a resource for survival. A century ago, whale oil was one of the most important commodities; now it's nonexistent. Commodities go in and out of style, so a reliance on commodity assets can quite easily doom you to perpetual nondevelopment.

This is worsened by the third circumstance - you reduce the credibility of your country. Every country that's ever developed did so because people and companies weren't afraid to develop technical expertise in a country. The US developed its own by virtue of its property laws and freedoms of choice, while China is developing by watching US technical processes and making them more efficient, but in all cases, there needs to be a culture of technological development. You can't develop non-resource exports if nobody trusts your country enough to build in it. You will thus always demand foreign higher-technology goods because you can't create it yourself, perpetuating the cycle.

Thus, the notion that capitalism is "inappropriate" for third world countries misses the point. Third world countries are subject to capitalism whether they like it or not. Any solution that rejects it requires a level of government efficacy in teaching, building, managing and developing that no country has ever been able to do effectively. The USSR couldn't manage it, China is being forced to become more and more capitalist in their corporate laws (though not in their national planning), and it's a safe bet that the highly, highly corrupt Latin American and African governments are gonna have trouble with it, too.

EDIT: By the way, I mentioned that the US developed by researching its own technology... that's true since 1940. In the 1800s, the US developed by watching Britain and providing secure, cheap labor to Britain. From 1900 to 1940, the US was primarily a resource and commodity economy. It shifted to higher value-added production after World War 2. This seems to be the path China is on (given that much of what they produce - consumer goods, electronics, etc - so efficiently is, theoretically, a "commodity" in that many different groups can build it and they often don't own the rights themselves).